Krugman on the minimum wage

…the usual notion that minimum wages and the Earned Income Tax Credit are competing ways to help low-wage workers is wrong. On the contrary, raising the minimum wage is a way to make the EITC work better, ensuring that its benefits go to workers rather than getting shared with employers. This actually is Econ 101, but done right: given a second-best world in which you use imperfect tools to help deserving workers, two tools together can produce a better outcome than either one on its own.

Forget who wrote it, but here’s an efficiency wage story about the minimum wage [Don’t jump to conclusions, this one has a surprise ending]:

Minimum wage is raised. The least productive lose their jobs and drop out of the labor force. Those productive enough, currently in school, and now facing lower search costs on account of the new minimum wage, drop out of school and replace those who lost their jobs. Result: Measured labor force remains unchanged. Measured unemployment remains unchanged.

Current GDP may even rise, and future GDP will certainly be lower than otherwise. No one will notice anything, except the poor sods who lost their jobs!

A similar scenario… Minimum wage rises, leading to some low-productivity workers not having a job. At the same time, some potential workers who are not strongly-motivated to get a job (eg, high school students looking to earn a bit of spending money) now know that any job they get will pay more than they had previously thought, motivating them to look for one, whereas before they hadn’t bothered. No change in over-all employment. Note that these weakly-motivated potential workers might be drawn into a job by the rise in minimum wage even if all the local employers were already paying that much or more, since the minimum wage rise amounts to free advertising that wages will be at least that minimum (which these potential workers may not have realized before).

The overall point here is that it may matter WHO is empolyed, not just the total numbers of those employed. It’s worse if a person with no other support can’t get a job than if someone who is just looking for optional spending money can’t get a job.

I look at it differently and maybe totally incorrectly. But since I am not an economist, I may have a chance of being correct or at least pointed in the right direction.

It seems to me when there are not enough jobs, like now. It is easier for employers to exploit workers. An example of this seems to be Walmart paying such low wages that their full time workers must also get government help to survive. Walmart is actually exploiting both their workers and the government, a double banger! Walmart thinks this is smart business.

A minimum wage puts a floor on how exploitative companies can be at least in that regard.

If workers got a fair wage, then they would be able to spend more on the necessities of life and maybe even a luxury every once in a while. If more workers spent more money then maybe we would see the start of a virtuous circle where more demand from the workers generated more business and then more hiring.

Maybe some day we would live in a world where the standard business practice of Walmart could no longer work and they, too, would have to pay fair wage. Or maybe if we changed the rules in this world so that there would be less exploitation of workers by employers, we would see the tide of wealth now going to the top few percent reverse. Or if we changed the rules so that corporations could no longer squeeze their profits out of the hides of their employees but instead had to make their profits out of improving their products and supply chains, we might see the same thing happen.

Wal-Mart has net profit margins of about 3.5%, as they have for quite a while, which suggests that they aren’t pocketing dollar bills for every penny they allow their employees to keep, and they haven’t suddenly started walking around in their tuxes, twirling their mustaches, single-handedly carving out wages from the helpless masses. Your fever dreams don’t count as evidence, even if they happen to incorporate the acceptable provincialisms of the day. Actual people who actually work at Wal-Mart might balk at the notion that they got their jobs only because they crawled in from the orphanage with absolutely no demands and no qualifications to bargain with.

So if WMT turns its inventories 20 times a year that would work out to be a 70%
return on their invested capital — assuming not sunk or overhead cost.

Their are numerous business models — some are low margins, high turnover models like grocery stores, and some are high margin, low turnover,like jewelry stores. To evaluate their return on capital you need to know which model they are using. WMT is like the grocery store model.

But saying profit margins in isolation provides no useful information. Either you do not really know what you are saying, or you are trying to mislead other readers that do not understand this.

Second, what happens when you start demanding Walmart pays a “fair wage” and then it replaces its employees with machines? At most grocery stores (and probably some Walmarts now – I used to shop there when I lived in an area where the stores were kept up but I don’t now because the stores are a mess where I currently live) there is one cashier for 4-8 checkout lines because the self-service technology has improved. Why wouldn’t Walmart start replacing multiple cashiers with a single cashier watching many lanes, and why even bother having a greeter at the door if the greeter now needs to make $20/hour (is that a fair wage – I don’t know)? I highly doubt that people would miss the greeter at Walmart – actually when I Google “Walmart greeters” I learn that some stores are phasing them out or reassigning them to other positions. If you increase the minimum wage too much Walmart would likely just lay them off, or at least not replace those positions when people quit.

Third, didn’t Walmart build its brand based on its knowledge of supply chains? Aren’t they used as a case study in business schools?

In Germany, the case study would be along the lines of how to lose a billion plus as a result of thinking you are lean and efficient, when in reality, you are just a bloated organization that relies on other factors than actual leanness, actual efficiency, or any other actual skill beyond squeezing workers, suppliers, and regulations to the breaking point.

I’m curious, which German retailer is more successful than Walmart outside of its home country? If there aren’t any then perhaps Germany has a lot of internal regulations that act as an unofficial barrier to entry for foreign firms. One would assume that if German retailer’s were actually significantly better than their international competitors they would be doing as well as Walmart or Carrefour are outside of their home market.

What power are you talking about? The power to agree or not to agree? The fact that so many apply for the jobs Walmart offers suggests they are doing the opposite of exploiting anyone. It suggests their offers are far more generous than they need to be for those offers to be accepted by qualified job-seekers, and that there is a large surplus for those who get the jobs. The great majority of Wal-Mart jobs are not minimum wage.

According to your theory of the world, every employer in the world has “all the power” because they get a lot of applicants. I pay my contract attorneys $70/hr. When I put out a job posting, I get a lot of applicants. Am I exploiting those attorneys? What if I paid $10/hr and I still got a lot of applicants? Would I then be exploiting them because I have “all the power”? Should I pay more than I need to attract qualified applicants?

Here is a similar reaction to minimum wage that I can think of:
Some more productive works are are not working due to unwillingness to bear the indignity of working fast food at the current wage but would rather wait for a better opportunity, but are willing to bear the indignity for more money, and the current McDonald’s owners are not aware that they could be getting more productivity per dollar by paying more. So the increase in minimum wage changes who works but has no or even a positive effect on employment.

The models invoked are all static or dynamic monopsonies of some kind. Monopsonies are decently rare. So if you want intuitive examples, reverse it (so that employees “buy” wages from a monopolist using labour as payment) – the minimum wage is then a price ceiling; it caps how much you labour you can offer for the given wage.

And economists do frequently argue that price ceilings do benefit the lowest value-added buyers – fairly intuitively, it prevents buyers who would benefit more from out-bidding them. If the ceiling is excessively binding, however, then the benefit vanishes as the suppliers of the ceiling’d good withdraw.

In your analogy, wouldn’t the lowest “value-added buyers” be laborers who offered less labor for the given wage? The buyers who are prevented from benefitting from outbidding them would be the low wage laborers, who it seems to me are worse off whether you model them as sellers or buyers.
So, it seems to me that what you’re saying is that workers who already expect $9/hour would benefit with more full employment at the expense of the lower wage laborers wouldn’t be allowed to outbid them by buying wages with more labor.

Nay. For example, take your favourite EC10 static monopolist. The monopolist restricts quantity to raise prices, in order to capture surplus from the high-value-added buyers, at the expense of losing the low-value-added buyers totally, who are outbid for the good. Forcing the price down “a little” raises the surplus of all buyers, including the low-value-added buyers. It also increases the quantity traded (i.e., increases employment), at least until the ceiling is so low that it drops below marginal cost. We could have a more sophisticated monopolist who practices price discrimination instead, in which case there is no quantity effect, but welfare is transferred from monopolist to buyers nonetheless.

Krueger’s pet model is a dynamic monopsonist combined with labour search theory and human capital investment or somesuch, though. The behaviour there is non-trivial.

In a normal monopolistic situation, a price ceiling will increase the quantity demanded and decrease the price. But, you have flipped the transaction so that the laborers are buying a wage with a given amount of labor. So, the price ceiling (in units of labor) means that there will be an increased quantity of wages purchased with less labor. In other words, the amount of wages earned would be higher, and the employed would capture more surplus, but there could be lower employment (less labor).

This is accepting the unlikely notion that the labor market is monopsonist.

It has occurred to me that the EITC without a minimum wage would be problematic. What would eventually happen would be a de facto collusion between employers and employees. There would be ‘phoney baloney’ jobs that paid very little but where the working conditions were relaxed, pleasant and undemanding. Because of the job would qualify them for the EITC, the employees wouldn’t care that they were being paid peanuts (and, in fact, they would prefer it to a higher-paid, but more stressful position), and employers, in turn, wouldn’t care that their employees had low productivity because they cost so little. So it seems that without *some* reasonable minimum wage, the EITC work requirement would have little meaning and the problem would be almost indistinguishable from the dole.

The claim at one point was “”as many as 80 percent of workers in Wal-Mart stores using food stamps.” I don’t see that as “de facto collusion between employers and employees” so much as a corporation actively exploiting a labor subsidy.

Nothing – they already left the country I live in, after suffering notable losses, both in court and to their bottom line. The bottom line losses are estimated at a billion plus (dollars, euros – no one really cares that much outside of Walmart).

The court losses made them a laughingstock in Germany, as Walmart insisted it had the right to actually determine, and then forbid, whether its employees could have romantic relationships.

If Walmart had been making a profit, they may have stayed in Germany, but between the two varieties of losses, Walmart decided to takes its ball and go home.

Earning no one’s ire here, I may add. Nobody in Germany was impressed with Walmart in the least – customers knew they were not cheaper than Aldi, while Aldi is lean and manages its supply chain in a fashion that Walmart will never approach (in part because they would need to fire somwhere around 95% of their management to approach Aldi levels of management overhead).

The idea that traditional welfare is a subsidy to employers is really awful economic logic. Wages are a function of supply and demand. To make labor cheaper for Wal-Mart you either have to increase the supply of labor or decrease the demand from competing employers. EITC could plausibly increase the supply of labor, since it increases low-wage workers’ effective returns to labor. But traditional welfare, insofar as it has any effect on the labor market, reduces supply of labor by making it less attractive relative to leisure.

There is a sense in which Wal-Mart could benefit from welfare, both traditional and EITC, which is that many welfare receipients shop at Wal-Mart. This is partially offset by the fact that they also shop at Wal-Mart’s competitors, increasing demand for retail workers, which increases Wal-Mart’s labor costs. It’s a bit rich to speak of this as if it were some kind of giveaway to Wal-Mart, though. The government needs someone to handle the logistics of converting welfare checks to goods that welfare recipients can consume, and Wal-Mart does that extraordinarily well. Welfare recipients are free to spend their benefits at other stores, so it’s not as though Wal-Mart’s getting no-bid contracts.

Are the corporations to blame? There are also stories of U.S. soldiers on food stamps. The reason is not that military pay has shifted, it is that 18 year olds enlisting in the Army already have children. It is the culture that has changed, not the pay structure. People are subsidized for poor life choices and they continue to require subsidies.

Without Wal-Mart would these people be employed? This is in fact how they crowd out expensive mom-and-pop stores, by being lower cost, in this case employing otherwise possibly unemployable labor.

Maybe the cutoff is too high for the government program. That is an equally valid conclusion from the simple observation that all these working people get food stamps. Do similarly paid people in other firms have roughly the same level of food stamp usage?

In what ways could Wal-Mart exploit a ‘properly’ constructed food stamp program? Perhaps there is scuttlebutt on how to get into these programs. Maybe there are seminars on property that facilitate qualifying people getting into the program. But would someone who favored these programs claim that frictional barriers to usage are a feature rather than a bug?

I’m not sure I even understand why this is a scandal. Are we to believe that supermarket cashiers in Europe are so well compensated that they don’t need to avail themselves of any government benefits? Seems unlikely.

8: That’s another thing. I often see a lot of outrage from the left about how a single parent can’t raise two kids on a minimum wage. Never mind that only about 10% of mininum wage earners are single parents, why would we blame Wal-Mart for the fact that someone with a minimum-wage job and no husband chose to have two kids?

maguro:
Most grocery stores are unionized, so I assume the jobs there pay quite a bit more. Go to a Whole Foods store (non-union) and look at the employees who work there. It will be mostly people in their 20s, with maybe a handful of much older people. Then go to a unionized grocery store and compare. You’ll see a lot of middle-aged people.

This is what unionization does. It takes jobs that are basically part-time jobs for students, retirees, and housewives, and turns them into lifelong careers.

I have an objection to this notion that you can’t be a single parent and raise two kids on the minimum wage.

Because many people do it for less than minimum wage. Illegal aliens, for instance, working under the table, often earn less than minimum wage, and somehow manage to have spare cash to send home to their families in mexico. Or feed their kids if they brought them along. Somehow, illegal immigrants are able to not only find jobs here, but survive and prosper without ANY of the various subsidies, supports, and regulations the US government has come up with to protect it’s own citizens.

The thing is that you can’t do it at a certain standard of living that Americans are accustomed to. You can always lower your standard of living in various ways. For example, by sharing living space with other families, which is often what Hispanic illegal aliens do. Of course, residential occupancy limits put a crimp in that. But it’s not uncommon to see three Mexican families sharing a house. Plus, if you share cooking and housekeeping expenses, you get economies of scale. Buy in bulk and cook a huge pot of beans for the whole house.

But Americans have this fixation on every family being entitled to it’s own dwelling. Even the housing protects are single-family occupancy. Even though it is fairly common historically and even in the present day in many countries for an entire family to live in one room.

I’m not saying these are awesome ideal living conditions, but people do it. And they trudge through the desert in 110 degree heat to get the opportunity to do it.

Up to a certain threshold, the EITC is a linear function of your wages. So if the pay is low, so is your benefit. I don’t think that workers and employers would collude to limit income to the point where it starts to phase out, because if the worker really wants to play that game, he’s better off quitting his job for the rest of the year once he’s hit the beginning of the phase-out period. Slacking off at work may be more pleasant than working hard, but not showing up at all is even better.

I was talking about a hypothetical case where there was no minimum wage. Part of the libertarian case for the EITC is, essentially, that gainful employment is important for human dignity and the minimum wage prices low-skilled people out of the market. So it would be better if such people could find jobs at whatever level of productivity they could manage and the EITC would make up the slack to provide a living wage.

But calculating the EITC as a percentage of wages only works because there currently IS a minimum wage. Without a minimum wage, you couldn’t do it that way because for somebody who was able to make only a few bucks an hour, adding on a fixed percentage would be insufficient. So instead, you’d have to make the EITC based on a formula like benefit=living_wage-earned_income. Which would then create the incentive for employers and employees to collude on very low wages for very light work.

It would be nice to see Krugman respond to Angus’ #3. Using a minimum wage to increase incomes of the working poor is like me using a shotgun to kill a fly buzzing around in my house. Except with the shotgun the damage is visible. Remind me of the superiority of “one size fits all” policies?

Your analogy assumes that raising the minimum wage is harmful. Krugman — if you read his post — anticipates and addresses this objection by linking to an article by John Schmitt which summarizes the past 18 years of research in labor economics on the topic and addresses the Card and Kruger v. Neumark and Wascher dispute in detail.

…the prices of fast food increased by about the amount that would be necessary to compensate the employers for the higher cost of labor.

One issue that arises is that when employers contemplate an increase in the minimum wage, they don’t take account of the fact that their competitors will also face a higher minimum wage, and therefore they won’t be at a disadvantage compared to their competitors. Instead, prices will rise and that will help to offset their higher costs and soften the blow of the minimum wage increase.

That’s an important factor that takes place in the economy, but there are some other factors too which help to cushion the conventional thought that a higher minimum wage reducing employment.

Paul Solman: That would suggest that for people who hire minimum wage employees, their customers are not as responsive to price changes as they might think.

Alan Krueger: It’s a relevant point. You might think if prices increase, then they’re going to lose customers. People might not go out to restaurants, they might do it at home. And if prices went up quite a bit, that might be the case.

But it turns out, you don’t have to raise prices that much to offset the higher costs of a minimum wage increase. What we found was that about a 3 percent increase in the price of fast food was enough to compensate the employers for the higher cost of labor as a result of the minimum wage increase.

A 3 percent increase in prices is hardly noticeable to most customers. So that’s one reason why you don’t see much of an effect on the product demand side: There isn’t a reduction in people going to the fast food restaurants when the minimum wage increases.

While the reporting can be appreciated, the 3% price rise cannot have left all the minimum wage workers employed, for that would require non-substitutability among workers. No one ever denied that increases in the minimum wage benefits some workers. Just not the workers one might think are getting the benefits.

One shouldn’t push the “hardly noticeable price increases” too hard. That’s just a hop, skip and a jump from “prices don’t matter”.

Except that when every business does this (not just the fast food chain and its competitors), the extra amount of income from mw raise (for those still with jobs) is offset by the aggregate increase in the cost of living. Not to mention the truly needy cohort of labor who were just displaced by opportunists.

There is the point about the domestic firm needing to compete in global economy. However, in my experience, the mw rarely raises to the level of affecting the economics given the need for access for US consumer demand
That said what should be noted by an increase in mw is the signalling effect on the rest of the economy. Imagine your a unionized manufacturing worker, and you have a set contractual rate for your houly employment. Of during the length of the contract you see you wage vis a vis the minimum wage decreasing, you are going to feel entitled to a higher wage than what may be justified. To most, this should and will sound nin sensical. However, the point is that the minimum wage is a part of anchoring expectations

A 3 percent increase in prices is hardly noticeable to most customers. So that’s one reason why you don’t see much of an effect on the product demand side: There isn’t a reduction in people going to the fast food restaurants when the minimum wage increases.

This is ludicrous. Are we to believe that (1) the marginal fast food customer doesn’t exist and (2) McD’s didn’t know this fact and has been leaving a bajillion 20 dollar bills on the sidewalk?

I guess noone will notice when the dollar menu becomes the $1.03 menu.

I noticed it.
A 3 percent price rise is approximately the difference between a $5.99 burrito at Chipolte, and a $6.29 burrito.
And almost everyone these days is remarking on how wierdly expensive fast food has gotten.

When it comes to immigration, economics theory is thrown out the window.

Raising the minimum wage would be a deft maneuver to block amnesty. Unemployment will rise rapidly as people re-enter the workforce in search of higher paying jobs. The spike in unemployment will kill the amnesty and weaken Obama. Republicans are dumb though, they will fight the minimum wage and pass amnesty.

I’m an not an economist. Every state I’ve ever lived in has a higher than federal minimum wage, but there are some that don’t. What does Econ 101 say on the effect raising the federal minimum wage between states domestically? What should I actually expect? If I lived in, e.g., Arkansas should my opinion on this policy be different?

Why give Krugman any credit here. Just before the quote begins, he even acknowledges that it is from the cited study. Reading the entire blog post, he used the other parts for HIS unique contributions, which is the usual insult, calling the criticisms a “myth.”

Given where the business cycle is, isn’t this a less than ideal moment to raise the minimum wage? How about waiting at least until we are closer to full employment, where its negative impact could be less.

I’m a tad annoyed at Angus’ comments about how we don’t know what changes in minimum wage would do and that conservatives should drop the extremist thought experiment. If we don’t know, then that is an argument against it. The extremist thought experiment is legitimate when we don’t know. The purpose of the empirics is to validate or reject models. The extreme position makes the simple model quite obvious. So, what is the small-change model? And does adding complications like the EITC make determining that easier? Does PK have a model or empirics to support his view? With their emphasis on empirical studies, I think economists are putting Descartes before the horse, to borrow from A Prairy Home Companion.

” Isn’t it possible that the minimum wage on net helps poor families because the direct effect of higher wages more than offsets the adverse response from employers? Since Boudreaux is making a theoretical argument, he has to admit that it is possible. The minimum-wage debate will not be resolved with an appeal to theory alone.

In the end, there is no good substitute for an appeal to facts. ”

If there is an effect, and if it is not trivial, we should be able to find it. Instead, the studies (while trending towards favoring the disemployment side) are mixed. Strongly favoring or opposing the minimum wage seems more like a faith than anything based upon facts.

How about a $20 an hour minimum wage? or $30? The only objections, of course, are theoretical, so don’t we have to admit, in theory, that this could be a net positive for low-wage workers?

What? You say somehow you ‘know’ a $30 minimum wage would be a disaster? Where are your facts sir?

An increase in the minimum wage will, IMO, only have trivial effects on both wages and employment, in which case it’s just political posturing, or it will have non-trivial effects on both, in which case it’s a bad idea.

Theory tells me that anyone who produces less value than the minimum wage, whatever it is, will be shut out of the job market, and that increasing the minimum wage, by itself, does nothing for a worker’s productivity. Silly theory, I know.

How about one glass of water if you are thirsty? 2? 20? 200? Cutting taxes increases revenues. Why dont we cut tax rates to zero? We’ll get bunches. I really wish people would give up this silly line of reasoning and deal directly with the issue.

So in short, you disagree with Mankiw? Theory is sufficient and an appeal to facts is wrong?

How can I generate facts about some future event? Look, we all know that economics as a predictive science is rather weak. What it can do is look at events that have happened in the past, like increases in the minimum wage, and analyze those to reach some conclusions about past activities. Since, AFAICT, we have never increased the minimum wage that much, I cant look to data for an answer. I should be able to find data for smaller increases like we have had in the past. When I look at that data, I find no clear pattern.

Just for kicks, I will play, if you will also. I think that more than doubling the minimum wage, putting it at about the current median wage would be a huge shock to the system, ie bad. Your turn. You work out and are thirsty. One glass of water is a, b, c, or d. Use your answers.

You appear to be making a complete gibberish statement. Yes, when you are thirsty water is good and you know it from past events and also from theory alone. But many, many things can be predicted just based on theory alone (and/or extrapolating from other events/areas). I mean what about someone who has never worked out, you think we can’t tell if they will want water after they work out?

Theory tells me that anyone who produces less value than the minimum wage, whatever it is, will be shut out of the job market, and that increasing the minimum wage, by itself, does nothing for a worker’s productivity.

Well…sort of. Remember the law of diminishing marginal returns. An employer may employ ten workers at $7/hour. The marginal productivity of each worker is $7 (or thereabouts; all we really know is that the employer can’t profitably employ an eleventh worker at $7/hour, or he would), but the average productivity is likely higher. Maybe the employer’s marginal return curve looks something like this:

These aren’t characteristics of the workers themselves—they could be identical in all ways—but rather characteristics of the tasks that the employer has for the workers to do. So the employer can still profitably employ five of the original ten workers at $10/hour.

Of course, this doesn’t take into account the fact that the workers’ nominal productivity is increased by the industry-wide price increases as other employers have to pay more for their labor as well. A worker producing ten widgets per hour may have a productivity of $7/hour if a widget costs $1 and its non-labor costs are $0.30, but if the price of widgets rises to $1.15, that same worker now has a nominal productivity of $8.50/hour even though his real productivity is still 10 widgets/hour.

If businesses are operating below capacity, how will cutting wages result in increased consumption? On the other hand, hiking wages will not cut consumption unless the job losses from hiking wages is greater than the cost of the wage hikes, and the cost of capital to increase labor efficiency is zero – buying capital requires hiring labor, so if innovation is free of cost, then when didn’t businesses implement the cost free innovation to cut labor before faced with a wage hike? Charity?

What constantly amazes me is the basics of econ taught in intro to microeconomics are constantly ignored or rejected by economists when criticizing public policy. Workers are only takers (of wages) with the money vanishing into the same black hole labor comes from or is supposed to vanish into if labor demand does not exist. On the other hand, consumers spend a pool of money that is not connected to anything but the Fed, taxes, and profits.